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Monday, December 05, 2005

Japan and the US Yield Curve

Understand why the US yield curve may be about to invert and you've understood a lot IMHO.

"The chief problem for the yen is that the flattening of the US yield curve has made it uneconomical for Japanese investors to hedge their ongoing purchases of US Treasuries, but a falling yen encourages overseas investors to hedge their purchases of Japanese equities - negating the value of these latter flows in currency terms."

Obviously what we have is asymmetric hedging. This begins to solve what had long been a mystery for me: who was really buying into the sustained Japanese recovery argument. Obviously many of the Japanese themselves aren't (sensible them). But OPEC members are. Really they should sack all their financial consultants :). The big issue, of course, is the US yield curve. The chain normally cracks at its weakest point, so this is a must to watch. Also, I wonder how much asymmetric hedging is taking place in Germany?

Basically the growth imbalance between the US, Germany and Japan, and the inability of these latter two economies to 'normalise' interest rates is producing a significant distortion in the global financial system. The US can have interest rates in the 4 to 5% range and still grow faster than either of the other two.

Co-indidentally cross this with a petro-dollar surplus arising from the changing terms of trade, and you have all the ingredients for some kind of problem. Now let's wait and see what happens next. I'm fascinated.

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About

Edward 'the bonobo' is a Catalan economist of British extraction based in Barcelona. By inclination he is a macro economist, but his obsession with trying to understand the economic impact of demographic changes has often taken him far from home, off and away from the more tranquil and placid pastures of the dismal science, into the bracken and thicket of demography, anthropology, biology, sociology and systems theory. All of which has lead him to ask himself whether Thomas Wolfe was not in fact right when he asserted that the fact of the matter is "you can never go home again".

He is currently working on a book with the provisional working title "Population, the Ultimate Non-renewable Resource".

Apart from his participation in A Fistful of Euros, Edward also writes regularly for the demography blog Demography Matters. He also contributes to the Indian Economy blog . His personal weblog is Bonobo Land . Edward's website can be found at EdwardHugh.net.